Counties A and B currently consume 400 units of food and 400 units of textiles each and currently do not trade with one another.The citizens of country A have to give up one unit of food to gain two units of textiles,while the citizens of country B have to give up one unit of textiles to gain two units of food.Their production possibilities curves are shown. Under the theory of comparative advantage,if free trade is allowed,the market clearing price (or exchange rate if you will)between food and textiles will be
A)one unit of food for one unit of textiles.
B)somewhere between one unit of food for two units of textiles and two units of food for one unit of textiles.
C)one unit of food for two units of textiles.
D)two units of food for one unit of textiles.

Question

Counties A and B currently consume 400 units of food and 400 units of textiles each and currently do not trade with one another.The citizens of country A have to give up one unit of food to gain two units of textiles,while the citizens of country B have to give up one unit of textiles to gain two units of food.Their production possibilities curves are shown.  Under the theory of comparative advantage,if free trade is allowed,the market clearing price (or exchange rate if you will)between food and textiles will be
A)one unit of food for one unit of textiles. 
B)somewhere between one unit of food for two units of textiles and two units of food for one unit of textiles. 
C)one unit of food for two units of textiles. 
D)two units of food for one unit of textiles.

Quizplus · Accepted Answer

Under the theory of comparative advantage, it is efficient for each country to specialize in producing and exporting the good in which it has a comparative advantage and import the good in which it has a comparative disadvantage. In this case, country A has a comparative advantage in producing textiles because its opportunity cost of producing textiles (giving up one unit of food) is lower than country B's opportunity cost of producing textiles (giving up two units of food). Similarly, country B has a comparative advantage in producing food because its opportunity cost of producing food (giving up one unit of textiles) is lower than country A's opportunity cost of producing food (giving up two units of textiles). Therefore, if they specialize and trade, country A will export textiles to country B in exchange for food, and the market clearing price will be somewhere between one unit of food for two units of textiles (country A's opportunity cost) and two units of food for one unit of textiles (country B's opportunity cost). Thus, the correct answer is B.

Counties a and B Currently Consume 400 Units of Food